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The commercial banking system has undergone a high deal of innovation in the past few years. A lot of new commercial lending products have been introduced in order to help business manage their finances better. A merchant cash advance is an example of one such innovative credit product introduced by the banks.
In this article, we will have a closer look at what a merchant cash advance facility is and why is it beneficial to the companies which opt for it.
We already know from the previous articles, that cash sales are an anomaly in the digital world of today. In most cases, corporations get paid via debit cards or credit cards. We already know that commercial banks provide a point of sales services to their customers. We also know that point of sales services has been strategically used by the banks in order to obtain more customers.
Over the years, several commercial banks have innovated and created a lending product that is completely based on the point of sales system. This product is called the merchant cash advance. As the name suggests, the commercial bank provides a merchant i.e. borrowing corporation with an advance.
Now, the repayment of this advance typically happens based on the sales which are registered on the point of sales terminal. This means that the bank has access to the bank account where the proceeds of sales are deposited. The bank is also authorized to make deductions from these accounts based on the agreement.
Merchant cash advances are different compared to other loans since the entire transaction takes place on the basis of a point of sales system. The credit evaluation is done before the loan is made as well as the repayment of the loan is all done based on the sales proceeds.
There are two main types of merchant cash facilities that are available in the market. The details are as follows:
Let’s understand this with the help of an example. A company can take a merchant cash advance of $100000 and instead of repaying a fixed amount, they can repay a percentage of daily sales.
For instance, a company may opt to pay for 10% of their daily sales to the commercial bank. The higher the daily sales, the higher will be the daily repayment and the loan will be repaid faster. On the other hand, if the daily sales are low, the loan may be repaid over a longer period of time.
In this article, we have been referring to merchant cash advances as a loan. This is because, in essence, they are a loan. However, this is not how commercial banks refer to them. They have made a very deliberate and clear distinction between an advance and a loan.
Commercial banks often say that they are not making a loan to the business. Instead, they are buying the future sales-related cash flows today at a discount. Commercial banks continue to do so because there are several advantages to calling this transaction an advance.
The fact of the matter is that the merchant cash advance industry is growing at a rapid pace. This is because of the fact that they are able to help businesses meet some of their needs. At the same time, this industry has also faced a lot of criticism. We have a look at the various pros and cons related to the merchant cash advance product in the next article.
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